Michael Hall (00:04):
Welcome to the industry's motion podcast from RBC capital markets. In this series, we explore what's new and what's next in today's fast moving markets and industries to help you stay ahead of the curve. Please listen to the end of this podcast for important disclosures. Today, I'm joined by Mandeep Jagpal who sits within our European insurance team. And he's got a background before joining us as a pensions and investment act action. A lot of Mandeep research has a particular focus on the emerging themes in the UK life insurance sector. And one of the themes he's done a lot of work on is, uh, projections of the future life expectancy and longevity. And this is a topic of high interest for both life insurers, as well as I'm sure the wider population. And it's also the topic of today's, uh, podcast. So Mandeep, welcome to the podcast.
Mandeep Jagpal (00:50):
Mike. Thank you.
Michael Hall (00:51):
So, as I said, the today's topic is about, uh, future life expectancy and longevity, an area where we've got a differentiated view as RBC versus the market. It's quite a complex topic. I'd love you to, uh, give us an, an overview of why life expectancy trends are important to the UK life insurance sector and where actually BC's views are different to the market.
Mandeep Jagpal (01:13):
As you say, given this an area of some complexity, maybe I'll start with an oh high level overview of the work that we've been doing in this area. So in our research, we've undertaken a forward looking approach to forecasting the drivers of longevity. This includes things like the ultimate impact of COVID 19, the increased rate of, uh, dementia related deaths and other factors such as the return of winter flu season and the cost of living crisis. Based on this analysis, we think the insurers are currently being too prudent in their life expectancy projections. I think that longevity reserve releases will therefore be material and broadly equivalent to 14% of the sector's current market cap. Also, it's not just the insurers that have not yet updated for the latest trends. They are not yet reflected in consensus estimates either. And we are therefore well ahead of market expectations due to our differentiate view.
Michael Hall (02:02):
Okay. I that's interesting when you talk about improving longevity, it's actually people dying earlier than forecasts
Mandeep Jagpal (02:09):
That's right. So longevity improvements are used by insurers to forecast how long they think people will live for in the future. For example, a current 65 year old might have a life expectancy of 23 years by a current 55 year old who will be 65 in 10 years, time might have a life expectancy of 24 years. By the time they're reach 65. And this extra year of life expectancy is due to these longevity improvements. So if the rate of longevity improvements starts slowing down, future life expectancy, projections will also need to come down
Michael Hall (02:38):
Before getting into your thesis. Then it could you explain how life insurers are exposed to, to that changing life expectancy?
Mandeep Jagpal (02:45):
So we've said to our view that longevity improvements and therefore life expectancy need to come down, but how are life insurers actually exposed to life expectancy? This occurs through the policies that they offer and when writing these new policies. One of the, the key assumptions that feeds into the premium is around life expectancy. So if life expectancy ends up being different to what the insurer initially thought that that individual policy could either be more profitable or less profitable than they initially priced for.
(03:14):
And actually due to various factors, which we'll discuss later, future life expectancy has been coming down for the best part of the last decade. Intuitively people may think that life expectancy coming down is actually bad for these insurers because the life insurance policies will, will pay out sooner than the insurer is initially priced for. However, we think that this is actually a misconception because in the UK it's anuity policies that make up the majority of the business. So annuities pay policy holders are guaranteed income for life. And this opens up insurers to something called longevity risk with longevity risk. If people end up living less long than expected, this is a positive for life insurers because they pay out benefits for less time than they thought they'd have to. Initially the big question is given the co related shock to mortality and the lack of data for the last two years, what will the trend for longevity be going forward? As I mentioned in our new research, which actually draws on the opinions of demographic experts and the most recent data, we think that insurer life expectancy projections are still too high. And so we, our view is that life expectancy projections will come down even further in the future. So if you put all that together, our view is that the premiums charged by insurers for the annuity policies have historically been too high. And therefore these insurers will actually be able to release this additional prudence back to shareholders resulting in higher profits and improved capital positions.
Michael Hall (04:33):
Understood. So UK life insurers have the most exposure to life expectancy changes through the annuity policies that they write, and that opens them up to longevity risk. Before we get on to why you think longevity risk will be a positive driver going forward, maybe you could explain what, what the trend has been historically and how material this has been for the sector historically.
Mandeep Jagpal (04:54):
Yeah, sure. So annual improvement in UK longevity have been consistent for a number of decades until 2011. This was helped by a stable reduction each year in heart disease related death, as the prevalence that smoking reduced. However, since 2011, the benefit benefit to longevity from people quitting smoking has leveled off as a number of people quitting each year has reduced as a smaller amount of the population left, who smokes alongside the fewer people are now quit. Smoking has also been a notable increase in death from dementia. These factors have led to a clear slowdown in recent annual longevity improvements. And for the UK life insurance sector, this has resulted in longevity, reserve releases being a material driver of earnings over the last five years. Longevity releases have counted for 20% of operating profits.
Michael Hall (05:43):
Okay. So looking forward, you, you mentioned your opening marks and comments there that you, you think COVID and dementia will be factors driving life expectancy, reductions versus forecast going forward. What's the impact of these FA factors and why, if you can see it hasn't the industry or the market really recognized them.
Mandeep Jagpal (06:04):
Yeah. So insurers have traditionally updated their longevity forecast annually, and this is where they adopt the most recent version of the Institute of actually's longevity improvement model. And this reflects the, the most recent years mortality data. However, since the onset of COVID, the significant increase in the number of deaths has meant that data from 2020 and 2021 has been unsuitable for use in these models. And so insurers have chosen to ignore all the prevailing data since 2019 in their forecast. This means that due to this one of shock insurers have not yet taken into account any of the underlying trends in longevity for the last two years, and then therefore completely ignore the, the long term impacts of COVID as well as the continuation of pre COVID trends, such as higher dementia related deaths. Mm-hmm <affirmative> so rather than waiting for this data to emerge over the next few years in our research, we have attempted to analyze underlying trends and forecast the size of potential longevity profits for the next few years without, um, do we think will be significant.
Michael Hall (06:59):
Okay. So, so moving on to the drivers themselves, then how, how will COVID impact your forecast?
Mandeep Jagpal (07:06):
Yeah, so there's growing consensus and recognition, uh, that unfortunately COVID will have a negative impact on longevity improvements. And some of this potential evidence is already started to be revealed with high than expected deaths in the UK. Over the last few months, as social restrictions have been removed and lifestyles have normalized. Additionally, the second order effects of the pandemic are likely to have much wider ranging impacts on life expectancy. And these may not be initially obvious, for example, firstly, there's been an increase in NHS waiting times across the country due to the initially the COVID response. And, but these are yet to reach re uh, recover to pre pandemic levels. For instance, now only 71% of cancer patients are seen within six weeks of a diagnostic test time from 97% before the pandemic. Secondly, the knock on effects of factors such as funding for the health and social care system, whether it be mental health or emergency care is likely to have a noticeable impact on how life expectancy improves as we, as we have seen in previous recessions, but it's not just broader implications of the pandemic on how we deliver healthcare, that we expect to be a driver of longevity going forward.
(08:10):
Another key factor is dementia, which is actually one of the few diseases that's been getting worse in recent years as a population has aged since 2011, dementia has been the number one cause of death for females in the UK, surpassing heart disease and strokes. Many of these diseases can be influenced by advertising regulation and taxes, but the causes and cures of dementia are much less obvious. So when insurers finally start updating their longevity assumptions for these underlying factors, which we think will be from 2024, we expect it will trigger material longevity, reserve releases.
Michael Hall (08:45):
Okay. So it's quite a gloomy picture of you paint COVID dementia, but also how we're delivering, um, healthcare post pandemic, uh, and implications of that you said there that you're not expecting insurers to actually start reflecting this assumptions until 2024, what's gonna happen until then. And how's that gonna appear in, in the market?
Mandeep Jagpal (09:08):
Yeah, so there's a number of factors that will drive high, more tighter rates over the shorter term as well. And these include the return of the flu and the cost of living crisis. Flu levels have been extremely depressed for the last few years, but our social distancing measures have now been relaxed. We expect flu related deaths to come back, although not the, not to the same extent as pre 2020. And this is due to endemic COVID cases, also being around now, the data from Australia support this thesis, flu death of surge, again in recent months after being dormant for the last two years now, in terms of less direct impacts on life expectancy, the cost of living crisis represents a real challenge in particular, with soaring energy prices, it will be, it will cost people a lot more to heat their homes. And historically 30% of excess deaths in winter are caused by people living in a cold home, according to world health organization estimates. So in summary, it's flu endemic COVID and the cost of living crisis that may cause excess mortality in the short term. And this will generate some small reserve releases over the next few years while reserve releases and profits will really ramp up over the medium to longer term. When the insurers have the data that they need to show this underlying negative impact of COVID and dementia and allow the insurers to finally update their forecast.
Michael Hall (10:20):
Okay, man, it's quite a gloomy picture. You paint in terms of mortality rates and actually life expectancy being lower than anticipated. But I guess for your, your companies, the life insurers, it actually reflects a, a better picture, a chance to reverse some, some of the provisions. Um, let's see how this develops over coming years, um, and how it plays through really interesting insights. Let's stay in touch on it. Thanks very much. What else lies ahead in today's ever evolving markets and industries, we'll be keeping track right here on industry's in motion. Make sure you subscribe to industry's in motion, wherever you listen to your podcast. Thank you for listening to today's episode.
Mandeep Jagpal (11:02):
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